Expert tips for buying a house with bad credit (Podcast)
Can I buy a house with a bad credit score?
If you’re looking to buy a house but you have low credit, we have some good news: you may still be able to get a mortgage loan.
Not-so-great credit or even poor credit isn’t the automatic deterrent for a home loan that it once was, says Ivan Simental, mortgage advisor at @theivansimental and host of The Mortgage Reports Podcast.
In a recent episode, Ivan discussed how exactly you can still buy a house — even if your credit score is low.
Verify your home buying eligibility (Jul 18th, 2021)
Listen to Ivan on The Mortgage Reports Podcast!
What exactly is ‘bad’ credit?
First things first: Ivan broke down what’s actually considered to be “bad credit.”
He explained that any FICO score under 670 is generally seen as low. Although, some mortgage options are available with scores starting at 580.
On the other hand, a FICO score of 740 or above is considered “very good” and will help you lock in the best possible interest rate and mortgage product.
According to Ivan, mortgage lenders typically use the following credit score ranges:
- 300-579 — Poor credit score
- 580-669 — Fair credit score
- 670-699 — Fairly good credit score
- 700-739 — Good credit score
- 740-799 — Very good credit score
- 800-850 — Exceptional credit score
Those with good, very good, or exceptional credit have access to just about any mortgage loan they want. And they typically get lower rates, too.
But that doesn’t mean buyers with lower credit scores are automatically excluded from homeownership.
In fact, the most common type of home loan — a conforming mortgage — allows credit scores starting at 620. And FHA loans require only 580 to get approved with some lenders.
Lenders set their own credit score requirements
It’s important to realize that different financial institutions have different ‘overlays.’
This essentially means that lenders can set their own rules about what credit scores are needed for borrowers.
For instance, an FHA loan is a federally-backed mortgage that only requires a 580 score to qualify, according to the Federal Housing Administration. But the bank that’s actually lending you the money might set its own FHA credit score requirement at 620 or higher.
That means there’s no ‘real’ minimum credit score requirement to buy a house.
Even if the loan type you want has a low minimum credit score, the bank or credit union you’re borrowing from may have an overlay that requires a higher score.
So you’ll need to double check with lenders you’re considering about their credit requirements. And if one requires an above-average score, keep shopping until you find a more flexible lender.
Get matched with a mortgage lender (Jul 18th, 2021)
3 things to know about buying a house with bad credit
Next up, Ivan shared some tips on how to successfully buy a house if you fall into one of those ‘bad credit’ ranges — and what you should know before becoming a homeowner.
1. Pay as much cash as you can
Ivan explained that if you have bad credit in any capacity, “cash is king.” The more cash you have to put towards a down payment, the better it is for you.
The reason for this is that with a poor credit score, you’ll most likely be approved for a lower loan amount.
However, if you’re able to bring cash to the table for a larger down payment, you can afford a higher sales price.
“You’re able to qualify for more because it’s a less risky loan,” Ivan noted.
He also added that your specific lender may have different requirements, so be sure to check in with them.
2. Budget for a higher interest rate and monthly payments
Unfortunately, homeowners with lower credit tend to pay more for their home loans.
In most cases, you’ll be charged a higher mortgage interest rate the lower your score is. That’s because, to lenders, your FICO score signals your reliability as a borrower.
In addition, if your down payment is less than 20%, you’ll pay for monthly mortgage insurance.
This could take the form of private mortgage insurance (PMI) on a conventional loan or mortgage insurance premium (MIP) on an FHA loan.
All this adds up to a higher monthly mortgage payment than someone with perfect credit and a large down payment might have for a similar loan amount.
However, getting a home loan could actually help you improve your score down the road, which leads us to the next point…
3. A home loan can help raise your credit
Yep, that’s right. If you manage to get a home loan with a low credit score, you can actually use the mortgage payments to help raise your score in the future.
Always make your loan payments on time, pay down any other debt you have and, eventually, paying back off your house can help improve your credit.
Once your score has increased, you may have the opportunity to refinance into a new home loan with a lower mortgage rate and monthly payment. Or, you could get cheaper financing next time you move.
In short, a home isn’t just a place to live. It’s a financial investment that can increase your wealth and improve your credit — putting you in a better financial position for the long run.
You just have to get over the initial hurdle of qualifying for a mortgage loan. Here are a few ways that can be done.
Verify your home buying eligibility (Jul 18th, 2021)
Home loan options for buyers with bad credit
Next up, Ivan listed some of the loan programs you can look into if your credit is in the ‘fair’ or ‘poor’ range.
- FHA loan (min. score 500-580) — This federally-backed loan accepts borrowers with credit scores as low as 500. However, if your credit score is that low, you’ll be required to put at least 10% down. A 580 minimum is far more common. As Ivan noted, different lenders may set their own credit overlays, so you’ll have to double check with your specific lender to see if you qualify
- VA loan (min. score 580-620) — VA loans are backed by the Department of Veterans Affairs, and they’re only available to borrowers with military service eligibility. For those who qualify, the VA has no official minimum credit score. However, VA lenders commonly look for a FICO score of 580-620
- USDA loan (min. score 640) — This loan type is only available in eligible rural areas. Typically, USDA loans only require a 640 FICO score. However, you’ll have to check with your lender on specific requirements. Ivan noted that especially coming out of the pandemic, many lenders have set more stringent overlays for loans
- Conventional loan (min. score 620) — A conventional mortgage requires at least a 620 credit score, as well as a 3-5% down payment
Of all the loan options available, Ivan explained that his favorite option by far is the FHA loan.
“It’s a little bit easier to qualify for and the credit requirements are a bit lower,” he explained. “That’s my personal choice for financing with not-so-great credit.”
An added benefit of the FHA loan is that it has looser requirements for your debt-to-income ratio (DTI).
DTI compares your debt payments to your gross monthly income. And if you have a lot of existing debt (for example, student loans, credit cards, and a car loan), it can become hard to qualify for a mortgage.
But the FHA program is lenient about DTI, giving first-time home buyers a little extra wiggle room with their income.
The best mortgage varies from person to person, so ask your loan officer or mortgage broker to help you compare options and find the right fit.
Tips for mortgage qualifying with bad credit
Last but not least, Ivan delved into some tips that can help home buyers get approved with a less-than-perfect credit rating.
Find a lender you can trust
Find a loan officer you trust and who you’re comfortable asking plenty of questions. This makes all the difference, he notes.
Ivan encourages listeners and readers to reach out to him personally (@theivansimental) if they don’t have someone in their area they do trust. He may be able to help connect you.
Do a credit clean-up
You can take a few steps to quickly boost your score by:
- Paying all your bills and loans on time every month. Your payment history makes up 35% of your FICO score, so this has a big impact
- Making sure all of your credit cards and accounts are below 30% of their credit limit. This improves your ‘credit utilization ratio’
- Checking your credit report for errors and getting them fixed. You can get a free credit report once a year on annualcreditreport.com
- Getting added as an authorized user on someone’s account who has a good credit score and credit history; this can help your own score in return
Working up to a higher credit score — even by just a few points — can make a big difference in your mortgage approval and the interest rate you’re offered. So do what you can before you apply, even if you don’t have a lot of extra time.
Go through the preapproval process
It might sound a little strange, but Ivan’s next tip is to go through the entire pre-approval process for a home loan.
Pre-approval involves filling out a loan application and providing a few supporting documents so the lender can verify your home loan eligibility.
Ivan recommends taking this step even if you aren’t sure you’ll qualify for a mortgage.
Why? Because in doing so, you’ll have the chance to sit down with a loan officer and get targeted advice on how to increase your chances of getting approved.
“See what things can be done within the next 30, 60, and 90 days to really boost your FICO score,” he suggests.
Usually, bad credit comes down to factors like overdue or late payments. And the loan officer may be able to help you set up an action plan to resolve those things.
The other benefit of going through the process with a lender, Ivan says, is that if they can’t help you, they will “100% connect” you with a credit specialist. This person can go even deeper and do things like delete accounts and file disputes which could have a big impact on your score.
Buying a house with bad credit: FAQ
With most lenders, the lowest credit score to buy a house is 580. That’s the norm to qualify for a federally-backed FHA loan. However, some lenders increased their minimum requirements to 600, 620, or higher during the pandemic. So you may have to shop around for more lenient financing these days.
The Federal Housing Administration does allow credit scores starting at 500. But there are strings attached. First, you need a down payment of at least 10% of the purchase price if your score is below 580. Second, lenders get to set their own credit minimums. So even though FHA allows credit scores of 500-579, most lenders don’t. You’d have to do your research and find a company willing to work with you.
If you have a credit score of at least 620 and low income, the Fannie Mae HomeReady loan or Freddie Mac Home Possible loan is a great place to start. These programs have special guidelines for low-income buyers and only require 3% down. FHA is another great option, as these loans are more flexible about debt-to-income ratios.
One of the best things you can do for a quick credit score fix is check your credit report for errors and get them resolved. Another strategy is to get added as an ‘authorized user’ on the credit account of a family member or partner with a great score. This reflects well on your own credit. Finally, you might look into a ‘rapid rescore,’ which is a way for credit bureaus to more quickly process recent positive changes to your credit history.
Having no credit is different from having bad credit. If your score is low because you haven’t borrowed much in the past, you may be able to qualify with alternative credit data. This could include sources like rent payments, utility payments, cell phone and internet bills, and more. Ask your mortgage lender about qualifying with nontraditional credit.
A 580 credit score is typically only allowed with an FHA loan. The maximum amount you can qualify for depends on your down payment and DTI, but it cannot be above FHA’s current loan limits. VA loans may allow a credit score of 580 and do not impose loan limits, but the amount you can borrow still depends on your personal finances.
Generally, an FHA mortgage is considered to be the easiest to qualify for if you have low credit. Veterans and service members will likely find it easiest to qualify for a VA home loan.
Check your mortgage eligibility today
In closing, Ivan encouraged listeners to look for strategies to buy a home now, rather than waiting for the perfect credit score.
He pointed out that while you’re waiting and trying to perfect your credit, interest rates and home prices are likely to go up, so it’s just going to get more expensive to buy.
“You don’t have to have perfect credit to buy a house,” Ivan recommends. “Buy real estate and wait. Don’t wait to buy real estate.”
Before house hunting, connect with a lender to find out whether you qualify for a mortgage and how much home you can really afford to buy.
You can get started right here.
Verify your new rate (Jul 18th, 2021)